Five CRE students, a recent alum, and four faculty members attended the Pension Real Estate Association’s Annual Investors Conference on October 19th and 20th. The conference had a huge turn-out with over 1,200 attendees. The following excerpts are key take-aways from the MSRED student perspective:
Investing in a Complex World
In the opening session, Michael Ferrari, Chief Science Officer of Climate Alpha, underscored the need to incorporate climate considerations into investment strategies. He maintained that while models offer valuable frameworks for potential outcomes, they are not foolproof and should serve as a reference framework, rather than definitive indicators. Ferrari suggested a pivot in the current ESG focus on mitigation (de-carbonization) to also include resilience and adaptability. Given the looming water crisis and rising heat stress, there’s a danger that invested capital in real estate, infrastructure, ag land, and corporate assets will be put at risk. The variable quality of climate risk data may also mislead asset owners into complacency. Michael championed a future investment approach factoring in climate, regulatory dynamics, and evolving human behaviors, pushing for sustainable investing.
The US Economy
In the second session of the day, Christina Romer, a UC Berkeley professor and former chair of the President’s Council of Economic Advisers gave an overall upbeat assessment of the US economy. In what was an entertaining presentation and engaging discussion with Ed Luce, US national editor from the FT, Christina made the case for higher rates for longer, a neutral rate 50 bps higher than most model estimates (1-1.5%) and that employment and economic growth will inevitably slow as a result of recent Fed rate hikes. Overall, she predicts medium run below trend growth and does not rule out a mild recession. In closing her presentation, she stated that a world of higher rates, by definition, will put downward pressure on real estate values. A message prescient and relevant to the audience.
Real Estate Allocations
In the session on “Allocations and Asset Class Comparisons from the Consultant Perspective,” industry professionals including Jennifer Stevens, Lauren Sertich, Shelley Santulli, and Taylor Mammen (an MIT MCP alum) discussed recent trends and forecasts in real estate allocations. The average target allocation for real estate stands at 8% – 10%, with some clients allocating up to 15%. The latest NFI-ODCE index reading indicates values have dropped 15% from their 2021 peak. As implied by public REIT markets, private market values might decline by another 10%, especially if interest rates remain high for an extended period. Investment committees have recently focused on questions regarding leverage strategies and office exposures. In terms of allocations, real estate debt opportunities appear promising. However, the importance of maintaining a balanced portfolio was emphasized, especially as equity opportunities remain attractive over a longer investment horizon, especially in alternative sectors like self-storage, data centers, and single family housing.
AI and Data Centers
Panelists for the Artificial Intelligence (AI) and Its Real Estate Implications session, facilitated by Roy March of Eastdil Secured, LLC, included Mike Forman from Blackstone, Jennifer Weitzel from Ada Infrastructure, and Gregory Wright from Digital Realty. The speakers referenced a second major inflection point, following the drive to digitization during the pandemic, where large companies are building foundational algorithms to accelerate different sectors of the economy. The panel agreed that the AI trend is just starting. For perspective, the power demanded by data centers has increased from from 2,000 to 3,000 gigawatts per year a decade ago, to several million megawatts per year—an increase of a million-fold. Massive growth in AI-driven capacity in areas such as digital infrastructure, global logistics, and renewables are anticipated to come online in the industry. High demand is also driving the need for more and different types of capital. Blackstone’s recent $10 billion acquisition of QTS Realty Trust in August 2021 provides an example. Capital investments grew from $500 million a year in 2021 to $6 billion to $7 billion in 2023, demonstrating significant growth that meets both real estate and infrastructure mandates. The session ended with a discussion on the future and transformation of data centers, especially the need to make them more ESG-sensitive.
In a challenging capital market marked by Federal Reserve tightening, the panel of top Proptech innovators in the real estate sector, including Gary Beasley of Roofstock, Megan Meyer Toolson of Opendoor, and Ryan Williams of Cadre, moderated by Adena Hefets of Divvy Homes, shed light on the resilience of proptech firms in 2023 H1. Despite a downturn of VC capital investment, established trust and partnerships have carried many Proptech firms through. Firms with demonstrated prowess in enhancing information efficiency, transparency, and speed in data and information exchange, coupled with a strong tech foundation, remain a magnet for investors. While in its early stages, the industry is embracing AI applications. The panel stressed the importance of treating technology as a critical asset and fostering trustworthy partnerships with a select group of firms. Proptech continues to forge ahead amidst challenges, and remains poised for promising growth and evolution despite a slowdown in VC capital.
Life Science Real Estate
This session was focused on addressing the intersection of healthcare and real estate investment. In the US, reducing healthcare cost and life prolongation treatments are driven by demographic demand—the elderly population is now the fastest growing age group. When asked if there is over-allocation of capital in the life science field, all speakers agreed overvaluation and huge supply pipelines driven by yield seeking behavior existed in 2020-2022. The panel suggested that valuation will return to normalized levels of 2019. And despite a pullback in pricing, there is plenty of capital for M&A activities and development to serve the most innovative firms in the bio-tech hubs around the nation. All speakers took a long-term bullish view towards the life science sector and the ecosystem cultivated by co-locating near major research universities or the NIH. With the lengthy FDA process required to bring new drugs to market, the search for the next “blockbuster drug” remains intense. Speakers agreed that the limiting factor for bio-tech and pharma growth is not capital but talent. Key topics to remain on the radar include flexibility in lab space for early stage companies, proportion of lab and office space according to corporate culture, and allocation of early stage and long term business adopting a barbell strategy. Panelists included Dan Belldegrun (Breakthrough Properties), Debra Cafaro (Ventas), Kevin Gillis (Third Rock Ventures) and Emma Lees (Bristol Myers Squibb).
As the evening speaker at the end of Day 1, Ignatius drew on his job as a reporter and editor of foreign affairs for the Washington Post for 43 years. In a wide-ranging, frank conversation he shared his views on the ongoing conflicts in Israel and Gaza, as well as Ukraine and Russia. As a writer of spy novels, he also shared the eerie experience of trying out a generative AI algorithm for the first time and finding it predicted novel plots that were very similar to projects he was working on. Ignatius acknowledged that polls show that the country does not yet have confidence in Biden-Harris, but he believes that this may be undeserved. Ignatius’ candid comments on President Biden, VP Harris, General Mark Milley, President Zelensky of Ukraine and other world leaders held the attention of the PREA audience and was a fascinating way to end the first full day of the conference.
Grantham and Rubenstein
Jeremy Grantham, founding partner of GMO, a Boston-based investment management firm, and David Rubenstein, the founder of the giant Private Equity firm, Carlyle, sat down together for the final panel of the conference. Grantham started by saying that “soft landings” exist only in the imagination of the Fed and that a bursting of the current stock market bubble, simultaneous with a recession, are the likely next steps in the US economy and capital markets. He criticized all the Fed Chairs from Greenspan through to Powell for paying too much attention to asset prices, instead of focusing on price stability and the supply of money. The result has been a series of stock market bubbles (1999-2000, then 2006-2007, and finally today) each of which burst in synch with sharp recessions. He sees commercial real estate to be in a “phony war” similar to Europe in 1939, where people are armed and ready but the actual battle is still a year off. Wars are trigger points for asset class sell-offs and he thinks that risk levels are rising and that investors are rapidly becoming risk averse. With such a pessimistic opening, Rubenstein asked Grantham if he was optimistic about anything; his reply was “I am optimistic my short positions will pay off”. Grantham went on to say that AI and climate change are the two main themes driving the stock market in the second half of 2023. And he counseled the audience to be “data driven” and not driven by emotion in evaluating asset prices. He has made a habit of watching for “two sigma” events when stock prices are two standard deviations above their long term average. He acknowledged, though, that with housing the US experienced a “3 sigma event” leading up to 2009 that is still being unwound.
Grantham’s advice to real estate investors is to look more closely outside the CRE asset class for signals on relative pricing. For example in 2000-3, what seemed expensive in real estate terms, was actually incredibly cheap in the low-interest world that unfolded 20 years ago. The opposite dynamic may be in effect in 2H 2023, because real estate hasn’t yet repriced the way the bond market has. He closed by saying that he is personally investing in green technology and companies that are tackling climate change—one of the most fundamental issues of our time. He finished by saying that as a long-term value investor, he looks for pockets of growth in what he thinks will be a slow-growth outlook in 2024. He gave the example of “wooden buildings”, which do far less damage to the climate than glass/steel and are being used to construct taller buildings than ever before.
The following students and alumni contributed to this article under the supervision of faculty member, Jacques Gordon:
Rebecca Caroline Glasgow
Shao Lan Wang